Darden, also the owner of Olive Garden and LongHorn
Steakhouse, slid 3.5 percent last week after announcing it will
separate the Red Lobster seafood chain. Raymond James Financial
Inc. says a breakup won’t create much value for Darden, which is
trading at a discount to most of its competitors. The plan falls
short of activist investor Barington Capital Group LP’s
proposals for a bigger shakeup, including ways to profit from
its real estate. Starboard Value LP, which disclosed a stake in
the company today, also said Darden’s proposal is inadequate.

With Red Lobster’s same-store sales declining, Darden
instead should focus on luring diners to boost returns over the
long haul, according to Albert Fried & Co. Some private-equity
firms may see an opportunity to buy the chain and bring it back
to health, Miller Tabak & Co. said. Acquirers in the U.S.
restaurant industry typically pay about the equivalent of the
target’s revenue, implying $2.6 billion for Red Lobster,
according to data compiled by Bloomberg. As a standalone company
though, it would trade at a discount to other chains, S&P
Capital IQ said.

“The market is disappointed and saying, ‘OK, this is just
a concession,’” Sachin Shah, a special situations and merger
arbitrage strategist at New York-based Albert Fried, said in a
phone interview. “Step one really should be fixing the
business. Right now, Darden needs to be aggressive in innovating
and investing in the business and changing the mentality that
Red Lobster is a mature, stagnant brand. That’s how you create
long-term value.”

Planning Strategy

Rich Jeffers, a spokesman for Orlando, Florida-based
Darden, said the company is beginning work on a strategic plan
for Red Lobster and picked Kim Lopdrup from its specialty
restaurant group to lead the effort as chief executive officer
of the chain.

Darden said the separation will allow Red Lobster’s
marketing and operating strategies to be more tailored to the
chain of 705 restaurants. Darden hasn’t yet decided whether it
will sell Red Lobster or spin it off as a publicly traded
company. It expects to close on any deal by the early part of
fiscal 2015, which begins in late May.

While Darden is taking steps in the right direction,
they’re not transformative and “could result in only modest
changes in performance,” Sara Senatore, an analyst at Sanford
C. Bernstein & Co., wrote in a Dec. 19 report. “Specifically,
the value of a Red Lobster remains an open question.”

Not Enough?

Darden’s plans for Red Lobster may not be enough on their
own, David Tarantino, an analyst at Robert W. Baird & Co., wrote
in a Dec. 20 report. The key to creating value for shareholders
rests with Darden’s ability to boost its operations, “and
visibility to such improvement remains low.”

The restaurant operator is trailing some of its rivals amid
competition for customers who are eating out less. Since the
U.S. recession ended in June 2009, the Bloomberg Industries
index of North American casual restaurants has climbed 164
percent, versus only a 55 percent gain at Darden.

Darden’s same-store sales fell in the past six months, and
growth at Olive Garden -- its largest chain, accounting for more
than 40 percent of revenue -- has slowed. While its smaller
brands such as The Capital Grille and Eddie V’s are seeing a
pickup in revenue at restaurants open for more than a year, Red
Lobster’s same-store sales tumbled 4.6 percent in the quarter
that ended in November after a 2.2 percent dip in the year that
ended in May, according to data compiled by Bloomberg.

“This quarter was very bad” for Red Lobster, Bryan Elliott, an Atlanta-based analyst at Raymond James, said in a
phone interview. “Its customer base is slowly dissipating.”

Activist Push

Shareholder Barington Capital, which has been pressing for
changes at the $6.7 billion company, outlined its proposals last
week before the restaurant operator announced its own plan. The
New York-based hedge fund suggested splitting Darden in two
because having more narrowly focused companies would lead to
better operational performance. It would involve breaking apart
Olive Garden and Red Lobster into one company and the smaller,
faster-growing chains into another.

Barington, which owns more than 2 percent of Darden shares,
also said that creating a publicly traded real estate investment
trust would unlock the value of the company’s properties, which
it pegs at about $4 billion.

‘Significant Opportunities’

Today, Starboard disclosed a 5.6 percent stake in Darden
and said the company’s plan for Red Lobster falls short of
what’s needed to boost its value. It said it may seek talks with
management and other shareholders.

There is “significant opportunity” to improve Darden’s
operating performance and potential to generate value from the
company’s real estate holdings, Starboard, a New York-based
hedge fund, said in a filing.

Darden shares gained 6.4 percent today to $54.35.

There may be private-equity firms that are willing to
stomach the turnaround Red Lobster needs and also see value in
its real estate, according to Stephen Anderson, a New York-based
analyst at Miller Tabak. While Darden is probably too large for
a buyout, Red Lobster is about the size financial buyers
typically seek, he said.

Deal Comparisons

Similar-sized U.S. restaurants have sold for 0.5 to 1.5
times trailing 12-month revenue, before accounting for any cash
or debt, data compiled by Bloomberg show. Using the median
multiple of 1, Red Lobster would command about $2.6 billion in a
sale.

“Private equity might come in to make some changes to the
brand, look for increased efficiencies and close some
unprofitable locations,” Anderson said in a phone interview.

If Darden doesn’t receive any offers for Red Lobster and
opts instead to take it public, it will probably fetch a lower
valuation than peers as sales remain weak and customers continue
to shy away from the rising cost of seafood, according to S&P
Capital IQ’s Jim Yin. A deal won’t have much of an effect on
Darden’s valuation either, the New York-based analyst said.

Darden’s enterprise value last week of $9.5 billion was
equal to 7.4 times its trailing 12-month earnings before
interest, taxes, depreciation and amortization. That’s already
lower than 86 percent of North American casual restaurants, data
compiled by Bloomberg show.

Splitting off Red Lobster “will probably be neutral at
best,” Yin said in a phone interview. “The benefit of the
potentially slightly higher valuation of this newer Darden I
don’t think will compensate for the decreased valuation that
will be put on Red Lobster.”